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DAVIS v. UNITED STATES

December 28, 1967

Paul E. Davis and Evelyn L. Davis, Plaintiffs,
v.
United States of America


Rosenberg, District Judge.


The opinion of the court was delivered by: ROSENBERG

This matter is here before me on a motion for summary judgment presented by the defendant, the United States of America, under Rule 56 of the Federal Rules of Civil Procedure. The plaintiffs, husband and wife, brought suit for the recovery of Federal income taxes and interest in the amount of $11,005.77, with statutory interest, which had been assessed and collected from the plaintiffs in the taxable year 1961. The plaintiffs do not dispute the accuracy of the facts which relate the chronology of events in the instant case, but do question "some of the factual conclusions" presented by the United States, defendant, and contend that these factual issues are material, genuine and substantial and preclude the granting of a motion for summary judgment at this time.

 Franklin E. Davis, father of the plaintiff-husband (hereinafter referred to as the plaintiff), died on September 28, 1956. His estate was administered by the Union National Bank of Pittsburgh, and an estate tax return was filed on December 19, 1957 which showed a gross estate of $304,249.75, and an estate tax liability of $15,870.76. The District Director of Internal Revenue determined, however, that the gross estate should have been $634,918.90 and that the estate tax liability should have been $70,279.40. Consequently the estate was assessed a deficiency, plus interest, of $47,135.68. The executor paid the assessed taxes, and filed a claim for refund which was rejected, and on March 24, 1960, it brough suit in the United States District Court for the Western District of Pennsylvania to recover the assessment and statutory interest. The litigation reflected a disagreement over the value of the shares of North Side Laundry Company (Laundry Company) stock owned by the decedent. The parties eventually reached an agreement, whereby the Department of Justice, on August 24, 1961, accepted a compromise offer of the executor to value the stock at $591.15 per share. The executor was refunded $51,254.11, and the suit was dismissed by stipulation on October 27, 1961. On September 28, 1956, the date that Franklin E. Davis died, there were 600 outstanding shares of Laundry Company capital stock. Under the will of Franklin E. Davis his shares (193) were bequeathed to the plaintiff. These shares were distributed to the plaintiff on February 14, 1958, whereupon he became the owner of 325 shares, or 54% of the outstanding stock, while the other shareholders owned together 46% of the outstanding stock.

 
"A motion was made by Mr. Bielau, seconded by Mr. Sell, and unanimously adopted, that the Company redeem forty (40) shares of Mr. Davis's stock, which he has offered to sell to the Company at the Federal Estate tax valuation of $591.15 per share, said stock to be held by the Company as treasury stock; his redemption for the purpose of repaying Paul E. Davis for death taxes paid on the Estate of Franklin Davis."

 The shares were redeemed on October 12, 1961. The remaining balance due on the debt as well as all interest payments were paid by the plaintiff out of personal funds.

 After the plaintiff's forty shares of Laundry Company stock were redeemed, he continued to own 285 shares of Company stock and the other shareholders continued to own 275 shares. The company held forty shares as treasury stock. Thus, of the shares owned by individual shareholders, the plaintiff owned 51% and the other shareholders owned 49%.

 Upon audit of the plaintiffs' 1961 Federal income tax return, the District Director of Internal Revenue determined that they had failed to recognize income in the amount of $23,428.39, and he asserted a deficiency against the plaintiffs of $9,428.39, plus interest thereon of $1,577.38. The plaintiffs paid the deficiency of $11,005.77 on February 11, 1965, and subsequently filed a claim for refund on March 15, 1965. This claim for refund was disallowed in full on January 28, 1966. On September 7, 1966, the plaintiffs brought the present action against the defendant to recover Federal income taxes and interest thereon of $11,005.77, together with statutory interest. The defendant has answered the plaintiffs' complaint and submitted interrogatories to the plaintiffs. These interrogatories have been answered, and based upon the allegations contained in the plaintiffs' complaint and answers to the defendant's interrogatories, the defendant has moved for summary judgment.

 The parties disagree over the characterization of the $23,646 received by the plaintiffs on the redemption of 40 shares of stock. The Internal Revenue Service determined that the redemption was a dividend (§ 316(a) of the Internal Revenue Code) and assessed them for additional taxes. The plaintiffs claim that the redemption must be treated as a sale or exchange of property. They rely upon two sections of the Internal Revenue Code of 1954, § 302 and § 303.

 Section 303 of the Internal Revenue Code, dealing with distribution in redemption of stock to pay death taxes provides as follows: (26 U.S.C.)

 
"(a) In general. A distribution of property to a shareholder by a corporation in redemption of part or all of the stock of such corporation which (for Federal estate tax purposes) is included in determining the gross estate of a decedent, to the extent that the amount of such distribution does not exceed the sum of -
 
(1) the estate, inheritance, legacy, and succession taxes (including any interest collected as a part of such taxes) imposed because of such decedent's death, and
 
(2) the amount of funeral and administration expenses allowable as deductions to the estate under section 2053 (or under section 2106 in the case of the estate or a decedent nonresident, not a citizen of the United States), shall be treated as a ...

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